Netting, Financial Contracts, and Banks: The Economic Implications
William J Bergman
Federal Reserve Bank of Chicago - Research Department
Robert R. Bliss
Wake Forest University - Schools of Business
Christian A. Johnson
Widener University - Commonwealth Law School
George G. Kaufman
Loyola University Chicago
FRB of Chicago Working Paper No. 2004-02
Derivatives and certain other off-balance sheet contracts enjoy special legal protection on insolvent counterparties through a process referred to as close-out netting. This paper explores the legal status and economic implications of this protection. While this protection benefits major derivatives dealers and derivatives markets, it is less clear that other market participants or markets in general are better or worse off. While we are not able to conclude whether or not these protections are socially optimal, we outline the wide range of issues that a general consideration of the pros and cons of netting protection should take into cognizance, and analyze some of these issues critically. Ultimately the question becomes one of quantifying complex trade-offs.
Number of Pages in PDF File: 45
JEL Classification: K23, K41, G28
Date posted: February 24, 2004
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